Sustainability, climate change, CSR, ESG, TCFD – what do you do? Have you written your ESG strategy? Are you up on the TCFD’s? Are you thinking CSR is dead? Our broad sector is sometimes accused of acronym heavy double speak – alienating those CEO’s and CFO’s whose attention we need to change organisations and put them on a net zero footing. And this doesn’t look like it will change any time soon.
We may be at peak acronym, but Environmental Social Governance (ESG) has never been more important in the transition to a net zero economy. The actions of businesses assessed by governments, investors and boards is increasingly being seen through the lens of responsibility. Does this business understand its impact on the climate and its exposure to climate change? Does it understand if its suppliers are tackling modern slavery? Does it have the right mechanisms in place to make climate resilient decisions?
According to Forbes the term ESG emerged in 2005 as a way of describing a more responsible approach to investment.
In 2017, The Task Force for Climate Related Financial Disclosure (TCFD) published a report that included a set of recommendations for voluntary and consistent climate-related financial risk disclosures in mainstream filings. They outline how organisations should account for and disclose their exposure to climate risk, focusing on transitional (to a net zero economy), physical and legal risks. The IPCC then produced its report stating that there were only 12 years to stop runaway climate change. That was in 2018 and ever since there has been a sharpened focus by pressure groups, the public and the media on the need to tackle our climate emergency.
But how do ESG and TCFD fit together? Are they related? And what do I do about it if they are? The TCFD’s focus is on climate risk. At first glance this looks simply like the ‘E’ in ESG. But if you drill down and use the TCFD risk categories it soon becomes apparent that applying those principles can hit all of your ESG aspirations.
The transitional risks in the TCFDs cover reputation, culture, policy, technology and markets and identify how an organisation can be affected. For example rapid national or international policy changes risk non-compliance; turning a business into a net-zero business has significant internal cultural impacts and can be seen as a large culture change programme; changes in technology away from fossil fuels requires investment, which long term financial planning may not have taken into account and so on. Transition risks transcend the simple environmental aspect of all of this – they speak to how decisions are made and who has oversight of those decisions (i.e. Governance).
Equally the two other external risks within transition (reputation and market) can impact on a business’s ESG rating and programme. For example, the increasing coverage and publication of evidence linking poor air quality to a range of indicators around health, coupled with increasing viability of electric vehicles has led to consumers quickly moving away from diesel in favour of something that is cleaner. In 2018 diesel sales plummeted by 37% in the UK. In the case of Jaguar, 90% of their vehicles were reliant on a diesel engine. Their failure to account for the market changes in vehicles was cited as one of three main reasons for their record £3.6bn loss that year. [i]
Understanding the physical risks, both from one off and longer-term events is obviously about understanding the environment. But this is where the issue of stranded assets comes into play and speaks not only about decisions, but also communities. You own or have investments in a large asset situated in a town where most of the population is reliant on employment from that asset. It then becomes apparent that the asset is at increased risk of flooding, or the cost of retrofitting mechanical cooling to be compliant because heatwaves are becoming more extreme is financially prohibitive. The asset then becomes stranded and is unlikely to see out its working life. The asset may have to be closed, with significant job losses and impact on the communities its serves and your commitment to the ‘Social’ of your ESG strategy begins to ring hollow.
But perhaps where the TCFD’s can influence your approach to ESG the most is under Governance. For too long, climate or ‘the environment’ has been considered the domain of specialists or the ‘committed individual’ and not of the executive team or the board. This is the governance gap that exists at the heart of many businesses – even if they have committed to net zero. In many instances’ poor consideration of long-term climate change is down to poor recording or organisation of data – because most organisations do not organise their data to take account of climate events or have genuine indicators. While carbon footprints can tell us what we have done, they can’t tell us what is around the next corner. And if you are looking backwards, without access to data that is managed and optimised then your decisions reflect that. This is the part where organisations become increasingly vulnerable to investor pressure, organised groups and litigation as seen by the recent ruling against Heathrow expansion. Being blind to the governance commitment needed to become a net zero, resilient business is what weakens genuine ESG approaches.
A note of caution however – assessing ESG can only be meaningful when companies and investors link them to the financial viability of a business. In 2019 PG&E, a Californian utility company, filed for bankruptcy because of a poor safety record and performance, despite having several good ESG ratings from a range of ESG ratings providers.[ii] ESG strategies and assessments can only go so far. Strengthening them with the principles laid out by the TCFD and taking governance responsibilities seriously, means that potential issues can be spotted early and mitigated. Greengage’s expertise in understanding both ESG strategy and undertaking climate risk assessments mean that we can assist businesses to improve their ESG scores for investors, while accounting for climate risk and preparing for increased disclosure for reporting, as set out in the UK Government’s Green Finance Strategy.
If you would like to discuss any aspect of the above please contact Bevan Jones or Mitch Cooke.
 Jaguar Land Rover profits skid on falling diesel demand, FT.com, 23 May 2018 https://www.ft.com/content/637351dc-5e80-11e8-9334-2218e7146b04
 PG&E Exposes the Pitfalls of Virtuous Investing, Bloomberg, 24 January 2019 https://www.bloomberg.com/opinion/articles/2019-01-24/pg-e-exposes-the-pitfalls-in-virtuous-investing